Terms You Should Avoid in Construction Contracts

Author

VCE Build
August 08, 2024

Construction contracts often include terms that unfairly shift risks down the supply chain, placing undue burden on parties less equipped to handle them. Instead there should be a collaborative approach among clients, consultants, contractors, and the supply chain. Standard contracts are meant to fairly distribute risk, but they are frequently amended, complicating them and leading to disproportionate risk transfer. This creates inefficiencies, additional costs, and inadequate insurance coverage, hindering project outcomes. There should be a shift towards managing risks rather than passing them on, aligning with the Government’s Construction Playbook, which emphasizes collaboration and proper risk management from the start.

 

To improve contractual practices and promote fairer risk allocation, here are six specific terms that should be avoided in construction contracts:

 

‘Fitness for Purpose’ Standard of Care for Design:

The term "fitness for purpose" imposes a high standard of care, requiring deliverables to meet a specific intended purpose. While suitable for materials and workmanship, applying this standard to design services is problematic. It creates unrealistic expectations and is often not covered by professional indemnity insurance, leading to disputes and higher costs. Instead, design liability should be limited to reasonable skill and care, which is more insurable and aligns with industry norms.

 

Delay/Loss and Expense Risk for Unascertainable Issues:

Risks related to asbestos, fossils, antiquities, unexploded ordnance, or statutory body works are often unquantifiable and should not be passed to contractors. Transferring these risks leads to disputes and inefficiencies, as contractors may adopt overly cautious pricing or face unexpected financial burdens. Instead, a risk management approach should be adopted, involving early contractor involvement and risk registers. Contractors should be able to recover additional time and expenses when such risks materialize, promoting fair risk allocation.

 

Exclusion of Time Extensions for Specified Perils:

Specified Perils like fire, flood, or riot should allow contractors to receive time extensions if they cause delays, even if the contractor was at fault. Removing this entitlement unfairly shifts risk to contractors, which is often uninsurable and could lead to insolvency. The standard JCT position allows for time extensions but not for loss and expense recovery, balancing risk between clients and contractors.

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Blanket Indemnity for Breach of Contract:

Blanket indemnity clauses require one party to cover all losses from a breach of contract, exposing them to unlimited, unforeseeable risks. This is often uninsurable and can extend liability beyond typical contractual limits. Indemnities should be limited to specific, fault-based categories like tax liabilities or intellectual property infringements, ensuring risks are manageable and insurable.

 

Uncapped Contractor Liability:

Uncapped liability exposes contractors to catastrophic losses, potentially leading to insolvency. This risk is often uninsurable and places an unsustainable burden on contractors. Liabilities should be capped at a reasonable level based on the contract value and the contractor’s insurance coverage, with carve-outs for serious offenses like fraud or misrepresentation.

 

Pure On-Demand Performance Bonds and Unqualified Parent Company Guarantees:

On-demand performance bonds allow clients to demand payment without proving contractor fault, straining contractors financially. Parent Company Guarantees without a ‘no greater liability’ clause expose parent companies to liabilities beyond the original contract. Collateral warranties without such a clause extend subcontractor liabilities excessively. Contracts should include default bonds and ‘no greater liability’ clauses to protect contractors and ensure fair risk distribution.

 

These recommendations aim to establish more equitable contracts, allowing all parties to manage risks effectively and ensuring successful project outcomes.

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